Red Flags in Lender Dealer Agreements — And What To Do About Them
Paul R. Norman , Sarah J. Horner | 12.07.20
Dealers often sign agreements with banks and other lenders governing the assignment of retail installment sales contracts (RISCs) and consumer leases, without first having them reviewed by an attorney. We suspect this is because they assume the agreements are non-negotiable. However, this is not always the case. Some lenders are willing to change provisions in their dealer agreements to make them fairer and more even-handed.
This is important because small changes in a lender’s dealer agreement can mean the difference in whether the dealer will be required to repurchase certain RISCs or leases down the road. Here are some of the provisions in lender dealer agreements that should raise red flags for dealers and make them think twice before signing without requesting changes.
Red Flag #1: Dealers Cannot Read Customers’ Minds.
All lender dealer agreements require the dealer to make certain warranties and representations and to repurchase any RISC or lease that does not fully comply with those warranties, upon the lender’s demand. A lender’s right to demand a repurchase exists whether or not the customer has defaulted, but most often a default will trigger the demand and put the dealer in a position of trying to collect on an obligation that already is in default.
How the warranties are phrased is important, particularly where the warranty pertains to facts which the dealer has no sure way of knowing. For example, most lender dealer agreements contain a warranty that the transaction is not a “straw purchase,” where the customer is purchasing the vehicle for someone else. If the warranty states, without qualification, that the transaction is not a straw purchase and it turns out that it is, the lender can require that the RISC be repurchased, even if there were no circumstances that should have led the dealer to suspect that the customer was buying for someone else. It pays for the dealer to see if the lender will agree to limit the “straw purchase” warranty, or any other warranty regarding matters that the dealer does not control, to what “the dealer knows or should know.”
Red Flag #2: Recourse Disguised as Non-Recourse.
Another red flag should be raised by provisions that allow the lender to demand repayment from the dealer if certain events occur, such as an adverse change in the customer’s financial condition, loss or damage to the vehicle or a dispute with the customer, after the RISC or lease has been assigned and payment has been made to the dealer. These provisions effectively make the assignment subject to recourse even after it has become final. Dealers should insist on making it clear in the dealer agreement that, once the RISC or lease has been assigned and the dealer paid, it is subject to repurchase only if there is a breach of warranty by the dealer. Leaving the lender’s acceptance without recourse open-ended leaves the dealer with an indefinite buyback obligation.
Red Flag #3: Repurchases Based on Unproven Allegations.
Another red flag is raised when provisions allow the lender to require that a RISC or lease be repurchased based solely on allegations by a customer. A dealer should not be required to repurchase a RISC or lease merely because a customer alleges that there was something wrong with the deal, unless and until the allegations are proven. Where customer allegations against the dealer are made in a formal legal complaint, the best course is for the dealer to be allowed to defend both itself and the lender in the litigation, with the understanding that the dealer will indemnify the lender against any losses resulting from a finding in favor of the customer. Asking that the dealer agreement be drafted to allow for this is a reasonable request by the dealer.
Red Flag #4: Warranties That Do Not Conform to Dealer’s Business Practices.
Often lender dealer agreements contain warranties that are inconsistent with current dealer practices. Examples of this are warranties that expressly prohibit or imply that a dealer has not accepted a down payment by credit card and warranties that the customer signed the RISC at the dealer’s place of business. Because some dealers do accept credit cards for down payments, and, particularly now in the time of the Coronavirus, some customers are signing agreements “on line” or when the vehicle is delivered at their homes, these warranties will be automatically breached and could end up requiring that a RISC or lease be repurchased for what is nothing other than a common industry practice.
Red Flag #5: Inconvenient Venue.
Dealers also should push back against “venue” provisions that require that any dispute arising under a lender dealer agreement be litigated or arbitrated in a forum other than where the dealer is located. Being required to defend or prosecute a claim in another state can make it more difficult and expensive for the dealer to assert its rights under the agreement and will give the lender more leverage in resolving a dispute.
Dealers should not assume that lender dealer agreements are non-negotiable. Lenders make money when buying RISCs and leases from dealers and are motivated to make reasonable adjustments to the agreements drafted by their attorneys, where needed to establish a business relationship with a dealer. Having a dealer agreement proposed by a lender reviewed for “red flag” provisions, such as those just discussed, and asking that those provisions be modified will prevent surprises later. A reasonably-drafted lender dealer agreement should not require a dealer to repurchase a RISC or lease that goes bad, where the dealer has done everything correctly in putting the deal together.
The information provided is for general informational purposes only. This post is not updated to account for changes in the law and should not be considered tax or legal advice. This article is not intended to create an attorney-client relationship. You should consult with legal and/or financial advisors for legal and tax advice tailored to your specific circumstances.